LLCs

Overview

A limited liability company (LLC) is a popular choice for farmers market owners seeking a business entity that protects their personal assets from business liabilities—a benefit that sole proprietorships and partnerships can’t provide. LLCs are seen as more flexible than corporations with a similar level of liability protection for the owners’ personal assets. On the other hand, an LLC may be more expensive than a corporation under some circumstances.

LLCs are created by filing paperwork with the state in which the farmers market is located. An LLC can have one or more owners. The business owners (generally called “members”) are responsible for the LLC’s tax matters with the Internal Revenue Service (IRS) and state departments of revenue. The LLC is a for-profit business structure and, as such, taxes are owed on any profits generated.

Defining Characteristics

Formation paperwork. Although not complex, steps must be taken to form an LLC.

Annual maintenance. Annual paperwork, which usually involves an annual fee, is required to maintain the LLC.

Personal asset protection. An LLC with proper set up and maintenance procedures generally offers its owners protection for their personal assets from business liabilities; however, business assets are always on the line to cover business liabilities.

More leniency regarding paperwork. Corporations are required to appoint officers and have bylaws, whereas LLCs are not. However, whether required or not, both LLCs and corporations should appoint responsible persons and create governance documents (bylaws or an operating agreement) to preserve the owners’ liability protection.

More flexibility. The LLC allows for a lot more flexibility than the corporation in how the entity is structured, including how profits are distributed and how voting rights are handled. In addition, as compared to the S Corporation federal tax status, the LLC can have an unlimited number of owners as well as owners that are not real persons, such as trusts or other LLCs. S Corporations cannot.

Exclusive ownership and control. As with any for-profit business structure, the owners ultimately control all farmers market assets, although responsibility for day-to-day matters can be delegated to employees and independent contractors.

Exclusive rights to profits and losses. As with any for-profit business structure, the farmers market owners have exclusive rights to all profits or losses that the farmers market as a business generates (not the profits or losses generated by individual vendors).

Donations not tax-deductible. As with any for-profit business structure, if the farmers market plans to receive donations from organizations or community members, donations will not be tax deductible for the donor.

For-profit business structure. A farmers market organized as an LLC is considered a for-profit business whether or not the market actually generates a profit. The perception of being a “business” may be beneficial in some circumstances but not in others.

Limitations on use of volunteers. As with all for-profit business structures, LLCs are limited in their ability to legally use volunteers and unpaid staff persons. More on that here.

Getting Started

What information is required for the articles of organization?

The articles of organization require the names of all LLC members and their contact information. The members are the owners of the farmers market.

The document also requires that a “registered agent” be named. The registered agent is the person who will accept formal notification, or service of process, in the event that the farmers market is sued. Accepting service of process basically means being the receiver of a letter stating that the LLC is being sued. The ideal registered agent is a person who is consistently available during business hours at the address stated in the articles of organization. Many businesses choose a member to be the registered agent, perhaps at his or her work address, while others choose to hire an agency that specifically provides registered agent services.

The articles of organization also require the business’ name, location, and nature of activity. The business name needs to include “LLC” in it. Many states will reject articles of organization if the stated name is already in use by another business. Thus, farmers markets should make sure they are choosing a unique name. The same office that files the articles of organization generally provides search services as well.

The articles of organization will likely require the LLC to be either “member managed” or “manager managed.” If the farmers market intends for every owner to be able to make big decisions on behalf of the market (such as taking out a loan), then the LLC generally wants to be member managed. If the farmers market intends to restrict big decision making to specific owners rather than all owners, the LLC generally chooses to be “manager managed.” LLCs choosing to be manager managed generally must name the manager(s).

Creating an LLC is quite straightforward:

A) Draft and file the articles of organization with your state

The act of creating an LLC is accomplished as soon as the articles of organization are filed with and accepted by the state. The articles of organization are generally a short document, just one to two pages long, that lists very basic information about who owns the LLC and where the business is located. Generally, the secretary of state’s office files articles of organization. Many states provide easy-to-fill forms that can be accessed online, complete with detailed instructions. A few states do not provide an online form and may require a paper filing by mail. In either case, the secretary of state’s office generally provides detailed information on how to complete and file the articles of organization. Most states charge a fee for filing articles of organization, which can vary from $100 to $1,000 or so.

The LLC is official once the articles of organization are approved

After the articles of organization are filed and the filing fee is paid, the state will review the paperwork and confirm whether it is approved. Reasons paperwork may not be approved include submitting a name already in use, not including one of the required pieces of information, or not providing the correct fee. Once the paperwork is approved, the LLC exists.

B) Create an operating agreement

Many LLC owners don’t stop at this step, however. They go on to draft an operating agreement. Only a handful of states require LLCs to have an operating agreement. But, even where not required, a solid operating agreement is an excellent risk management strategy. Creating an operating agreement adds credibility to the LLC, making it more likely that personal asset protection will withstand a court challenge. Further, a good operating agreement puts all owners on the same page as they specify responsibilities and procedures for the LLC.

The section on control and decision-making provides more specifics on operating agreements. For more detailed information on drafting an effective operating agreement, download the free resource Farmer’s Guide to LLCs from www.farmcommons.org. The guide contains checklists and detailed, annotated operating agreements to assist farmers in creating their own. Farmers market owners will also find the guide very helpful.

C) Follow best business practices

When creating an LLC, farmers market owners should consider two additional best business practices. Because an LLC creates a distinction between the business and the business owners, it’s important that the owners follow through on that distinction. The most important way owners can maintain that distinction is by keeping a separate bank account exclusively for the farmers market’s activities. Mingling the LLC’s money with an owner’s personal funds makes it more likely that a court would not respect the LLC’s existence—and go after the owner’s personal funds. LLC owners should also keep careful track of their annual obligations to the state. Most states require LLC owners to submit an annual report, which is generally accompanied by a fee. Failure to submit the report or pay the fee can result in the LLC being “dissolved” or closed down.

LLCs Provide Personal Liability Protection

One of the reasons the LLC is a popular business structure is because it provides personal liability protection. This means that the owners’ personal assets are not available to satisfy business liabilities. If the business is sued or incurs debt the business cannot pay off, only business assets are available to fulfill that liability. Corporations, incorporated nonprofits, and cooperatives also provide this benefit.

Sun Valley Farmers Market LLC

Let’s say Sun Valley Farmers Market LLC sets up a welcome station at the farmers market. Here, the owner manages the vendors and does paperwork while selling gift certificates and tote bags to customers. One day, a person trips and falls over the concrete blocks that stabilize the Sun Valley Farmers Market tent. The injured person sues the farmers market for the injury. Because Sun Valley Farmers Market is an LLC, the lawsuit is properly filed against the LLC itself and not against the owner. Ideally, Sun Valley Farmers Market LLC would have general liability insurance and the owner would immediately notify the insurance company to take over the lawsuit and pay any settlement.

But, let’s say the market either does not have insurance or the liability exceeds the policy limits. In this case, the injured person might seek the farmers market’s assets. The injured person could lay claim to everything the farmers market owns as compensation for the injury. But, the injured person could not claim things that the owner possesses—such as the owner’s house, retirement funds, vehicle, or other assets. The fact that the owner’s personal assets are not available to the injured person is a primary benefit of an LLC.

Limitations to personal liability protection

Shielding the owners’ personal assets from business liabilities sounds very positive, and it is, but there are limitations to this protection. It’s important to remember that all the business’ assets are still available to satisfy business liabilities. The farmers market might have assets such as a vehicle, vending supplies, a valuable lease, or other resources—these, or the money from a sale of them, can be taken by creditors. For this reason, an LLC is not a substitute for business liability insurance. Liability insurance is the only way to protect business assets.

Follow best practices

Bear in mind that personal asset protection is the most solid when LLC owners follow best business practices, including keeping personal and business funds separate, properly capitalizing the operation, and fulfilling duties, such as annual reports with the state government. Failure to do these things makes it easier for creditors to argue that the LLC owners didn’t earn the protections the LLC can offer.

Some states may have additional or specific duties that are expected of LLC owners with regards to the organization. For example, the owners may be required to monitor finances adequately, and would become personally liable if they did not.

Farmers market owners wishing to rely on the liability protection of an LLC should keep these key best practices in mind at all times:

Business bank accounts are kept separate from personal ones.

Business monies are kept in business accounts and personal monies in personal accounts. Finances are not intermingled.

Even where not required, an “operating agreement” is in place to demonstrate that the business is legitimate in terms of having a purpose and manner of functioning that’s beyond the day-to-day whims of the owner.

LLC members may have state-specific fiduciary duties. Where applicable, these duties are satisfied, as well as any other annual state duties such as report filing and fee payment.

Owners may be held personally liable for certain wrongful acts

In certain cases, the owner of an LLC can be held personally liable for a wrongful act that he or she commits during the course of business. For example, if a person commits a crime during the course of business (like fraud), he or she will be held personally liable for it. Likewise, courts have found that while an LLC member is not liable for wrongs committed by the LLC just by virtue of being an LLC member, if he or she was directly involved in committing the wrong—for example, let’s say the owner of Sun Valley Farmers Market LLC intentionally placed the concrete block in front of the person who tripped over it—then he or she may have personal liability for those actions. In other words, the LLC provides limited liability protection to LLC members with respect to the LLC’s contractual obligations and debts, not to obligations and debts incurred by an owner’s personal wrongdoings.

Personal guarantees override personal liability protections

Of course, creditors, banks, and vendors are very familiar with the liability protections offered by an LLC. As a result, many banks and creditors will insist on a personal guarantee before they extend credit to an LLC. Especially if the LLC has very few assets, the lender is aware that very little will be available to satisfy debts. When an owner personally guarantees a debt or credit, the owner is, of course, personally responsible even though the LLC is formed.

The LLC is on the hook for civil and criminal wrongs of its agents

Just like any other business, an LLC is generally liable for civil and criminal wrongs committed by its agents. For example, if an LLC’s employee negligently injures a third party while acting on behalf of the LLC within the scope of his or her employment, the LLC may be liable for the employee’s negligent act. Likewise, if an employee commits a crime while acting on the LLC’s behalf, the LLC may be fined or some other sanction may be imposed as punishment for the violation. Second, an LLC may be liable for breaching contracts entered into by its members. Third and finally, an LLC may be liable for violations of federal and state statutes governing employment, environmental protection, and securities, among other issues.

LLC Members Have Ultimate Control and Decision-Making Responsibilities

Legally speaking, the members of the LLC hold ultimate control over and responsibility for the LLC. An LLC may have one member or it may have more than one member. Although the member(s) may delegate responsibility to specific persons (such as other members or employees), all members bear legal responsibility for issues such as state filings, liability, and tax obligations.

Member-managed or manager-managed

In a multiple-member LLC, the owners must decide if the business will be member-managed or manager-managed. In a member-managed LLC, all members have authority to take actions on behalf of the company (sign contracts, leases, etc.) and make big decisions. By contrast, in a manager-managed LLC, the member-owners choose one or more managers who have the authority to sign contracts and make other large decisions. The manager-managed structure makes sense where, for example, an individual wants to be an investor in a business but does not want a role in some or all of the decision-making. In this case, the owners who are more involved in running the business would be manager-members and the investor would serve as a non-managing member.

The decision to become a member-managed or manager-managed LLC often needs to occur at the time the articles of organization are filed. Members can later designate what exactly the roles are of the managing members and non-managing members in the operating agreement. Members can also change their mind and file amended articles of organization that change their designation.

Individual members may have specific roles

LLCs are not required to specifically appoint officers such as a president, secretary, and treasurer, as corporations are required. However, LLCs often still choose to delegate specific responsibilities to specific owners. For example, one owner might be responsible for maintaining books and keeping in communication with the business’ accountant or tax preparer. This person could be called the treasurer, but could just as easily be called the tax-matters member or any other title as the owners so choose. Of course, where the LLC has only one owner, that person simply performs all the duties and responsibilities, so specific titles are just a formality. The case is the same for a corporation—one person may hold all the titles of president, secretary, and treasurer.

An operating agreement is helpful even if not required

LLCs have wide latitude to structure control and decision-making among various members. The LLC generally writes these rules and procedures in a document called the “operating agreement.” The operating agreement is not required in most states, but it’s still very beneficial. Where there is more than one owner, good procedures and delegation help an LLC run smoothly.

By contrast, corporations and cooperatives are required to have written bylaws. This is often what people are referring to when they say that LLCs are more flexible than corporations: Operating agreements are not required to be written and responsibility can be delegated in a manner other than president, secretary, and treasurer. The work of the treasurer may still need to be done and procedural decisions made, but LLCs can choose the titles and structure of those needs in perhaps a more flexible way than corporations are allowed.

A detailed operating agreement is an excellent business practice and reinforces the legal protection offered by an LLC. A detailed operating agreement addresses the following topics, among others:

Percentage of ownership of each member

Scope of authority of each member

Allocation and distribution of profits and losses

Rights and responsibilities of each member

Voting rights and procedures

Operating agreements, as well as options for structuring control and decision-making, often make more sense when applied to a specific case. To see how a farm business might allocate decisions and set responsibilities, download the free Farmer’s Guide to LLCs from www.farmcommons.org. The guide contains detailed, annotated operating agreements that illustrate how decisions and control might be allocated in an LLC. Although intended for farmers, farmers market owners will find the information very applicable to their operations.

Succession Planning

It’s important for markets to think proactively about leadership changes before they happen. Keeping files organized and in one place can help create an easy, go-to spot for finding answers about the market and for ensuring continuity during transitions. Learn more about how you can prepare for smooth transitions in Recordkeeping.

LLC Owners Choose How to Be Taxed

A distinguishing feature of LLCs is that they may elect how they want to be taxed. An LLC can elect to be taxed as a sole proprietorship or partnership (depending on the number of owners) or as a corporation. By default, an LLC with only one owner is treated as a sole proprietorship for federal income tax purposes. An LLC with more than one owner is treated as a partnership. As with sole proprietorships and partnerships, the LLC's profit or loss is reflected on the member’s personal federal tax returns, and the individual’s total tax rate is determined together with all the eligible credits and debits. When there is one owner, the LLC’s activities should be reflected on the member’s Form 1040 Schedule C, Profit or Loss from Business (Sole Proprietorship). For multiple owners, each owner should show his or her respective share of partnership income, credits, and deductions on a 1065 Schedule K-1.

In the alternative, an LLC can choose to be taxed under the S section of the corporate tax code, a designation indicating that it is for small businesses. Many small businesses, farmers markets included, will want to be taxed as an “S Corporation” when the individual owner(s) makes at least the average income for a person in a similar managerial position. Filing taxes as an S Corporation may reduce self-employment taxes by classifying some income as dividends rather than personal income. Dividends are currently taxed at a lower rate than personal income. An LLC must file a Form 8832 to affirmatively elect to be treated as a corporation.

An Employer Identification Number (EIN) is often required

An LLC with more than one owner is required to get an EIN. By completing a simple form, a business can get an EIN in a matter of hours. If the LLC has only one owner, it may still need to get an EIN if the answer is “yes” to any of the following questions:

Do you have employees?

Do you file any of these tax returns: Employment; Excise; or Alcohol, Tobacco, and Firearms?

Do you withhold taxes on income, other than wages, paid to a non-resident alien?

Even if the Internal Revenue Service (IRS) does not require an EIN, banks, lenders, and other institutions may require it. These other entities may require an EIN simply as a paperwork convenience or because they want the security that the LLC is registered with the IRS, even if not required.

An Operating Agreement Provides the Governing Law

LLC members are generally free to make their own rules of operation, and do so within the operating agreement. For more on operating agreements click here. However, where an LLC does not have an operating agreement, or where it has an operating agreement but the agreement does not address a specific topic, state law provides a backup. Where LLCs have not specifically agreed otherwise, state law lays out basic rules for how the LLC will run and how responsibility is allocated.

To use one example, Vermont’s LLC law states, “To the extent the operating agreement does not otherwise provide, this chapter regulates the affairs of the company, the conduct of its business, and governs relations among the members, among the managers, and among members, managers, and the limited liability company.” The chapter then describes an array of rules on company management, including requirements that, in a member-managed LLC, the members have “equal rights in the management and conduct of the company’s activities,” and must allocate profits and losses in proportion to their contributions to the business.

Each state has an LLC statute (law) that sets forth requirements and default rules of operation for LLCs. Currently, fourteen states and the District of Columbia model their LLC legislation on the Uniform Limited Liability Company Act.

I heard LLCs are easier than corporations to create. Is this true?

Technically, yes. LLCs have fewer obligations than corporations in terms of drafting bylaws and appointing officers. But, the decision to not create an organizing document (i.e., bylaws for the corporation or operating agreement for the LLC) or assign responsibility for important procedures does create legal vulnerability. Good operating agreements and assignment of responsibility help any business manage itself wisely.

I heard LLCs don’t offer as robust a personal liability protection as corporations do. Is this true?

For most intents and purposes, the LLC offers the same personal liability protection as a corporation. Because LLCs are newer, there was a time when attorneys wondered how courts would treat this new business entity option. Having been around now for over 30 years, it’s clear to most people that the LLC will receive the same personal liability protections as a corporation.

Some farmers markets operate at several locations around town, or they operate the same market on different days. Is each market a separate LLC or entity? Or can the same LLC run several farmers markets?

A single LLC can operate many different farmers markets. These markets can be in the same town, across the state from each other, or even in different states. A single LLC can also operate farmers markets and other enterprises such as retail stores, restaurants, or recreational programs. Completely different enterprises can live within the same LLC, if that’s what the owners choose to do. Some owners choose to put different enterprises into different LLCs. Owners make this choice for a few reasons. Where one enterprise has particularly valuable assets (like a building or equipment), the owner may want to insulate those assets from potential liability for unrelated ventures. Recall that business assets are always available to satisfy business liabilities. Thus, all the assets in a single LLC are available to satisfy a liability from any venture within that LLC.

For other business owners, forming and operating multiple LLCs just isn’t worth the time and expense—these owners often focus on getting good business insurance to make sure they never lose business assets in the first place. If an LLC houses multiple farmers markets or other ventures that operate in various states, the LLC will need to register in each state in which it is doing business.

Disclaimer

The Center for Agriculture and Food Systems is an initiative of Vermont Law School, and this toolkit provides general legal information for educational purposes only. It is not meant to substitute, and should not be relied upon, for legal advice. Each farmers market’s circumstances are unique, state laws vary, and the information contained here is specific to the time of publication. Accordingly, for legal advice, please consult an attorney licensed in your state.